Tuesday, June 04, 2013

Another piece I wrote for IranOpinion.com on the economic challenges ahead and the significance of the economy in the upcoming election:

As Iran’s presidential election approaches an increasing number of analysts and observers comment on the state of Iran’s economy. The last reports indicate that some segments of Iran’s labor force are experiencing high unemployment rate while the economy is experiencing an increasing inflation rate. The next president faces economic challenges some might consider unprecedented.

Last month Statistical Center of Iran (SCI) announced employment data for the last Iranian calendar year from April 2012 to March 2013, reporting the unemployment rate to be at 12.2 percent, which is almost at the same level with the unemployment rate in the preceding 12 months. According to this report, Iranian youth experience higher than average unemployment rate, 28% for males aged 20 to 24 years old. The youth unemployment varies widely across the country and in some provinces it is reported as high as 50%. The SCI puts the number of the unemployed at 2.9 million, 100,000 more than its last annual report. However several websites report the unemployment numbers to be much bigger, referring to discouraged workers’ effect.

One source of discrepancy comes from the definition of employment, which has changed during the current administration and now it includes individuals who work for at least one hour during the week. Many believe that this definition, which is also used by several other countries, underestimate the unemployment in Iran while overestimating the size of employed population. They argue that given the increasing inflation and reports of business closures and the slowdown in manufacturing, it is logical to see an increase in unemployment rate and not a decrease. However in offering an analysis one has to rely on the available data and observations. The increase in the size of unemployment is evident. Although one might argue the unemployment rate has not increased. One thing can thus be said with certainty: more Iranians need jobs.

According to reports by SCI and Central Bank of Iran (CBI) inflation rate has been increasing at a faster pace in the past two years (read here). A recent report by Majlis Research Center (MRC) warns that the economic growth might fall to -4%. In other words Iran’s economy has begun to shrink. When an economic contraction begins, in the presence of inflation, the only logical conclusion is that the volume of economic activities is declining within the society. This means less investment, less business enterprises and eventually less jobs and employment opportunities. The American and European consumers are only too familiar with this phenomenon; many lost their jobs and even their homes following the global financial crisis of 2007-08. It seems as prices are on the rise the ability of Iran’s economy to create jobs is declining.

Increasing unemployment and increasing inflation rate increase the possibility of hyperinflation in Iran’s economy. This increases the uncertainty investors and businesses face daily in marketplace. Under these circumstances any modest drop or price change could alarm consumers and producers prompting them to become irrational in the marketplace. Consumers will try to buy commodities because they expect them to be more expensive later, producers will be reluctant to sell because they do not know how much the same product will cost them in the immediate future. The outcome will be a vicious cycle of inflation which would discourage manufacturing even further. That means slower job creation and even higher unemployment. In order to prevent this, any administration’s first task is to battle the uncertainty while promoting entrepreneurial endeavors.

A large portion of Iran’s population are younger than 35 years, they require jobs and market stability to make individual decisions in pursuit of their happiness. To provide them with such stability government needs to change course. Its first step could be to adopt higher standards in fiscal and monetary responsibility. The second step should be defining a viable economic target. According to MRC the current administration has been slow in addressing its budget deficit, while increasing money supply via banking system and accepting commitments it cannot fulfill.

When Mr. Ahmadinejad came to power 8 years ago he promised a zero unemployment rate by creating 2.5 million jobs in 2-3 years. Last month in a live program Dr. Nili, an Iranian economist, shared some of SCI reports with the viewers which showed the net job creation from 2006 to 2011 to have been an average of 14,200 jobs per year. The government side produced reports backing its claim, but many agree that unemployment in Iran is on the rise. With the current reports on negative economic growth, it seems the government’s means to address this issue are diminishing as well. However it still can face its challenges by defining a viable economic target. Reducing inflation could be such a target. First it is doable and creates credibility for the government and second it reduces the economic volatility encouraging investment and rational behavior. Iran’s economy can benefit from both significantly.

The question these days is not who will be president, but if anyone could face these challenges and succeed despite sanctions and public mismanagement and structural deficiencies embedded in Iran’s economy? It seems whoever comes to office needs to know his economics 101 pretty well

Sunday, June 02, 2013

Can the next Iranian administration solve the economic issues facing the country? Its options might be limited. However the public expects the next president to deal with issues such as unemployment and inflation. The fact is that the next administration's actions might pay off in the long run and not in the immediate future. Its options are limited by the economic realities and their efficiency might be reduced in the political process.

Eight presidential hopefuls are permitted to seek the office of president of Islamic Republic of Iran. Listening to them it seems all eight use the same keywords when it comes to the economy: reducing inflation, creating jobs, increasing and absorbing investments and promoting domestic production. However reviewing their comments one does not see any specifics about how they would accomplish these. As one observer put it mildly, “candidates have confused economic slogans with economic planning”. And there's not much time even for planning, for Iran’s economy faces daunting challenges and demands quick action. In a recent meeting of Tehran’s Chamber of Commerce Dr. Masoud Nili told a gathering of businessmen and entrepreneurs that if the current situation continues, in three years Iran’s unemployed population would increase to something between 5 and 8 million. The latest official estimate at the time of writing is 2.9 million. Dr Nili singled out unemployment as the most serious challenge for Iran’s economy.

The question is whether the next president could address the increasing unemployment while keeping inflation in check? Any answer should take the following into account: what powers does the office of president hold and what options are palatable given the political and economic realities.

A first challenge arises from the decentralized nature of economic and fiscal decision making. The executive branch prepares the budget and the development plans; however, they need to be approved by the legislative. The legislators, or Members of Majlis, use this opportunity to seek political patronage and to reward their support base using the process. The outcome will be a policy package of compromises done to gain the necessary political support. The new president faces an uphill battle: he has to implement the required policies without too much compromise in the political process that would dilute those policies.

Addicted to subsidies

Another major challenge is the public opinion. Many Iranians, habituated by decades of central planning, hold the government - and only the government - responsible for energy, public utility, health services and economic infrastructure. If the next government’s solutions for unemployment and inflation affect its ability to provide subsidized services, or reduce the resources available to public services, it will certainly face widespread discontent. The public may not appreciate the tradeoffs required for addressing the economic issues left to the new president by his predecessor. If he tries, on the other hand, to keep the public happy at all costs, his government’s ability to address the economic problems will decline rapidly.

If the next administration wants to solve the problem of unemployment, it needs to eliminate the sources of economic volatility. It definitely has to do this without compromising on programs such as monthly cash subsidies to Iranian households. This means spending money without increasing the money supply. However with the oil revenues declining because of the sanctions and Iran’s limited ability to use these revenues in the global market, the government either needs to adjust the price of energy and eliminate the multi exchange rate system or to borrow money from the Central Bank. The latter will increase the money supply, which will increase the inflation. The former will be resisted because many suspect it causes inflation, even though it will create a more stable economy in which jobs can be created.

The problem is that the process of creating jobs is not a fast one. Dr. Nili estimates that any economic effort to create jobs would take three years to pay off. In these three years Iranians should shoulder increasing prices for gas and imported goods. Public pressure against those policies will mount.

Resource reallocation might be another source of public dissatisfaction when it comes to fighting unemployment. If the next president decides to give higher priority to employment, then it may need to allocate more resources to industries and the development of the private sector. This could mean shifting some of the existing resources from higher education and other public sectors. He will thus have the unhappy task of explaining to Iranians that having more of everything is not an option. Still this could be a great opportunity to implement some lasting reforms by expanding the private sector and improving the efficiency of the public sector.

Of course, many would think that lifting the sanctions would solve Iran’s economic woes overnight. This perception is wrong however. Iran’s economic challenges are no doubt caused in part by sanctions; the government would have more resources to deal with these issues where the sanctions to be lifted; yet lifting the sanctions alone will not be enough.

The next administration is expected to deal with the economic challenges using a limited set of policy tools; it can also make a difference by increasing the efficiency of public sector and improving on accountability and management standards. That will be a tough job, but it is a doable one. Despite significant challenges both due to the bureaucratic process and the public opinion the next government can start an economic reform process which will pay dividends in the long run.